Solution Chapter 1 - 2 - Investment

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CHAPTER 1: THE INVESTMENT ENVIRONMENT 1. Ultimately, it is true that real assets determine the material well being of an economy. Nevertheless, individuals can benefit when financial engineering creates new products that allow them to manage their portfolios of financial assets more efficiently. Because bundling and unbundling creates financial products with new properties and sensitivities to various sources of risk, it allows investors to hedge particular sources of risk more efficiently. Even if the firm does not need to issue stock in any particular year, the stock market is still important to the financial manager. The stock price provides important information about how the market values the firm 's investment projects. For example,…show more content…
Failure to make payments does not set off corporate bankruptcy. With respect to the priority of claims to the assets of the firm in the event of corporate bankruptcy, preferred stock has a higher priority than common equity but a lower priority than bonds. 11. a. At t = 0, the value of the index is: (90 + 50 + 100)/3 = 80 At t = 1, the value of the index is: (95 + 45 + 110)/3 = 83.333 The rate of return is: (83.333/80) − 1 = 4.17% 2 b. In the absence of a split, Stock C would sell for 110, so the value of the index would be: 250/3 = 83.333 After the split, Stock C sells for 55. Therefore, we need to find the divisor (d) such that: 83.333 = (95 + 45 + 55)/d ⇒ d = 2.340 c. 13. The return is zero. The index remains unchanged because the return for each stock separately equals zero. The after-tax yield on the corporate bonds is: 0.09 × (1 – 0.30) = 0.0630 = 6.30% Therefore, municipals must offer at least 6.30% yields. 14. Equation (2.2) shows that the equivalent taxable yield is: r = rm /(1 – t) a. b. c. d. 4.00% 4.44% 5.00% 5.71% The higher coupon bond. The call with the lower exercise price. The put on the lower priced stock. 16. a. b. c.

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